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• The European DJ Stoxx 50 this morning is trading -2.70%. Asia-Pacific stocks today closed sharply lower, playing catch-up after key Asian markets were closed on Monday for a holiday: Japan -4.95%, Hong Kong -5.44%, China -3.72%, Taiwan -4.89%, Australia -1.39%, Singapore -1.01%, South Korea -5.74%. Asian banks with exposure to Lehman Brothers were hit particularly hard today. Tempering declines was the continued sell-off in oil prices. Asian and European central banks today injected a large quantity of reserves to keep the banking system liquid. The ECB injected 70 billion euros of reserves, the Bank of England injected 20 billion pounds, and the Bank of Japan injected 2.5 trillion yen ($24 billion). The Fed yesterday injected $70 billion in reserves, the most since Sep 11, 2001.
• The overseas stock markets were roiled further last night after S&P and Moody's cut their credit ratings for AIG, which had the effect of further raising capital requirements for AIG and putting the insurer in a position where it needs to raise even more capital to stay afloat. At the same time, AIG's stock price yesterday plunged, making a capital raise even more expensive for the company. S&P cut AIG's rating by 3 grades to A- and Moody's cut AIG's rating by two grades to A2. AIG has a huge $1 trillion balance sheet and the majority of major global financial institutions have exposure to AIG. The Treasury and US Fed have so far refused to give AIG a bridge loan or other type of assistance, insisting that AIG find a private funding solution. AIG this past weekend walked away from deals from three private equity firms. The game of chicken between AIG and Fed/Treasury officials continues as most observers believe that AIG is in the category of financial institution s that is "too large to fail."
• FOMC meeting – Market participants during yesterday’s tumultuous session boosted the chances for a 25 bp rate cut by the FOMC at today’s meeting to about 68% from just 10% last Friday. While the Fed is supplying plenty of liquidity to the marketplace, the FOMC may feel that another shot in the arm is necessary for the US economy given that the effects from the federal stimulus program are now over and the US banking system is in full crisis mode with the evaporation of the fourth largest US securities firm. On the more positive side, oil prices have fallen sharply and gasoline prices will follow soon after the recent hurricane disruptions pass. Nevertheless, the mood in the country remains highly negative and the Fed needs to prevent a downward spiral in confidence and spending from developing. From the Fed’s standpoint, however, a 25 bp rate cut is not going to have much more than a psychological impact and the Fed is probably better off keeping its powder dry in t he event that AIG or fallout from the Lehman bankruptcy cause even bigger problems in coming days. The Fed could then step in with an emergency rate cut to stabilize the situation on any given day. Looking beyond today’s FOMC meeting, expectations for Fed policy shifted substantially yesterday. The market is now discounting a full chance of a 25 bp rate cut to 1.75% by December 2008, and is discounting a maximum 56% chance of an overall 50 bp rate cut by April 2009. The market is then looking for the funds rate to return to the 2.00% level by October 2009.
• CPI – Today’s Aug CPI report is expected to show an overall report of –0.1% m/m and +0.2% ex-food and energy. That would follow July’s report of +0.8% m/m overall and +0.2% m/m core. On a year-on-year basis, the Aug CPI is expected to ease slightly to +5.5% from the 17-1/2 year high of +5.6% posted in July. The Aug core CPI is expected to edge higher to +2.6% from +2.5% in July. The +2.5% level of the core CPI in July was mid-way between the 2-year low of +2.1% posted in late 2007 and the 17-1/2 year high of +2.9% posted in September 2006. On balance, the inflation outlook has quickly become a minor concern at the Fed and in the marketplace with the combination of the plunge in crude oil and commodity prices and the flare-up in the banking system crisis. While the inflation statistics are still high from an historical standpoint, the inflation statistics will be moving lower in coming months due to the decline in oil and commodity prices and the Fed clearly has fl exibility to ease if needed to protect the banking system and economy.
• NAHB housing market index – Today’s Sep NAHB housing market index is expected to recover slightly by +1 point to 17. In August, the NAHB index was unchanged from July’s record low of 16 (the history for the series goes bank to 1985). The National Association of Home Builders index measures the general state of the single-family home market, with 50 being the demarcation between a “good” versus “poor” outlook for the single-family home marketplace. Homebuilder sentiment remains uniformly negative given the continued overhang of unsold home inventories and the general lack of home buying interest. On the brighter side for the housing market, mortgage rates are at least falling sharply with the combination of the Fannie/Freddie government bailout and the general decline in T-note yields. The 30-year mortgage rate fell to a 5-month low 5.93% in last week’s report, which was down sharply by 69 bp from the recent 1-year high of 6.62%.

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• September S&Ps this morning are trading -8.70 points as the fallout continues from Sunday's Lehman bankruptcy and from the AIG situation. The US stock market yesterday sold off sharply and closed with large losses (Dow -4.42%, S&P 500 -4.71%, Nasdaq Composite -3.60%).
• Bearish factors for stock prices yesterday included (1) Lehman Brother's bankruptcy filing, which caused concern about widespread collateral damage, (2) comments from former Fed Chairman Greenspan that the currenct financial crisis that began with the collapse of the subprime-mortgage market last year "is probably a once in a century event" that will lead to the failure of more firms, (3) the prediction from Oppenheimer analyst Whitney that the sale of Lehman's assets will push down the value of the mortgage securities, forcing other firms to write down their own holdings, (4) the 61% plunge in AIG to a 20-year low as the largest US insurer failed to present a plan to raise capital and stave off credit downgrades,(5) the 12% fall in Goldman Sachs after they were downgraded by Merrill Lynch to "neutral" on the liklihood Lehman's bankruptcy will reduce profitability for the biggest US securities firm, (6) the weaker-than-expected drop in US industrial production as the -1 .1% decline in Aug was the largest monthly decline in 2-3/4 years, and (7) the larger-than-expected decline in the Aug capacity utilization rate to a 3-3/4 year low of 78.7%.
• Bullish factors for stock prices yesterday included (1) the 0.1% rally in Merrill Lynch, which fell from a 33% gain, after Bank of America agreed to buy Merrill for $50 billion, (2) the fall in crude oil prices to a 7-month low, (3) the drop in the 10-year T-note yield to a 5-month low and the possibility the Fed may cut interest rates at today's FOMC meeting, and (4) New York State's Governor saying AIG has been given special permission to access $20 billion of capital from its subsidiaries to free up liquidity in order to buy more time for the largest US insurer to negotiate a loan from the Fed or raise capital.
• The decline in oil prices is hurting oil companies this morning but is helping automakers such as GM.
• Hopes for a Fed rate cut today are helping banking stocks since lower rates improve banks' profit margins.
• Washington Mutual (WM) fell more than 10% after S&P cut its debt rating to junk status due to the deteriorating housing market.
• Dell is sharply lower by 5.5% in European trading after saying that he sees "further softening" in technology demand this quarter and that it will cut payrolls to trim expenses.
• Harris Corp (HRS) rallied nearly 3% late yesterday after S&P announced that Harris Corp will replace Lehman Brothers in the S&P 500 index. Harris Corp, based in Florida, produces military radios.

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• December 10-year T-notes this morning are trading +24.5 ticks on continued concern about systemic banking system risk tied to Lehman and AIG and on ideas that the FOMC may cut the funds rate target at its regular meeting today. December T-note prices yesterday rallied sharply and closed +2-1.5/32 points at a contract high while the 10-year T-note yield fell to a 5-month low. Bullish factors for T-note prices yesterday included (1) a massive flight-to-quality as global equity markets plummeted due to Lehman Brothers' bankruptcy filing, (2) a 68% chance, up from no chance last week, that the Fed at today's FOMC meeting may cut the funds rate 25 bp to 1.75% due to the current financial market turmoil, (3) the weaker-than-expected Sep Empire manufacturing index (-10.2 to -7.4 versus expectations of -1.8 to 1.0), and (4) the larger-than-expected declines in the Aug industrial production and capacity utilization (industrial production -1.1% versus expectations of -0.3%) and Aug capacity utilization (-1.0 to a 3-3/4 year low of 78.7% versus expectations of -0.3 to 79.6%). A bearish factor for T-note prices yesterday was the addition of almost $300 billion in extra borrowing by the US Treasury to help pay for the Fed's programs to help troubled financial markets and the economy.
• The dollar is mixed this morning with the dollar/yen down -0.59 yen and the euro/dollar down -0.54 cents. The dollar index yesterday sold off sharply to a 1-1/2 week low early but then recovered much of its losses to finish the day just mildly lower. Bearish factors for the dollar yesterday included (1) the rally in the yen to a 2-month high against the dollar on a massive exodus from the carry trade as global equity markets tumbled due to the collapse of Lehman Brothers, (2) the weaker-than-expected US industrial production and capacity utilization reports, (3) the weaker-than-expected Sep Empire manufacturing index, and (4) expectations the Fed at today's FOMC meeting may cut the funds rate due to the current financial market turmoil. Bullish factors for the dollar yesterday included (1) comments from President Bush that US policy makers are working to "reduce disruptions" in financial markets, and (2) comments from former St. Louis Fed President Poole that risks w ill now decline in financial markets as "weaker" financial players are forced to exit the market. 
• October crude oil prices this morning are trading -$2.56 a barrel and October gasoline is trading -5.14 cents a gallon. The main bearish factor this morning is continued technical selling and ideas that the current financial market turmoil will prompt even more weakness in the economy and energy demand. October crude oil prices yesterday sold off sharply and closed -$5.47 a barrel and October gasoline closed -20.82 cents a gallon. October crude oil yesterday posted a 7-month low of $94.00 a barrel and October gasoline posted a 5-1/4 month low of $2.525 a gallon. Bearish factors for crude oil prices yesterday included (1) limited damage to oil production and refinery facilities along the Gulf of Mexico due to Hurricane Ike, and (2) the collapse of Lehman Brothers which increased concerns that the slump in financial markets and the economy will deepen, curtailing energy deamnd. Bullish factors for crude oil prices yesterday included (1) the sell-off in the dollar ind ex to a 1-1/2 week low, (2) comments from the Iranian oil minister that OPEC may consider more crude oil production cuts at its next meeting in December to reverse the recent decreasing price trend, and (3) the third day of attacks to Royal Dutch Shell oil installations in Nigeria by militants.

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Earnings reports (confirmed releases for companies with market caps above $10.0 bln listed by mkt cap): GS-Goldman Sachs (BEST earnings consensus $1.74 per share), ADBE-Adobe Systems (0.46), BBY-Best Buy (0.57), KR-Kroger (0.41), DRI-Darden Retaurants (0.64)

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